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Lenders can breathe a sigh of relief as the law of guarantees remains unchanged

On May 13, 2013, the Ontario Court of Appeal released its highly-anticipated decision in Royal Bank of Canada v. Samson Management & Solutions, a case concerning the enforceability of a “plain-vanilla standard form bank guarantee” in the context of a business loan. The appeal was from the June 2012 decision of Justice B.A. Glass of the Ontario Superior Court, a decision that sparked considerable interest in the lending community, in which the motion judge found that a continuing guarantee from Ms. Cheryl Cusack to the Royal Bank of Canada (“RBC”) was unenforceable and granted Ms. Cusack summary judgement to dismiss RBC’s action against her. A summary of the facts and the lower court’s analysis is set out in our recent client updates entitled Unenforceable Guarantees: Lenders Take Note, and Unenforceable Guarantees: Decision Under Appeal.

RBC appealed the decision of the motion judge to the Ontario Court of Appeal. In a detailed and thoughtful decision, Justice Lauwers, writing for a unanimous court, allowed RBC’s appeal and granted summary judgement against Ms. Cusack on the guarantee.

The main issue on appeal was whether Ms. Cusack contracted out of the protection provided to a guarantor by the common law and equity. The basic governing law is set out in Manulife Bank of Canada v. Conlin, [1996] 3 S.C.R. 415, which, following the long established legal principle known as “the rule in Holme v. Burnskill”, provides that a guarantor will be released from liability on a guarantee in circumstances in which the creditor and the principal debtor agree to a material alteration of the terms of the contract of debt without the consent of the guarantor. That said, Conlin also provides that a guarantor can contract out of the protection provided by the common law or equity, however any such language in the guarantee must be clear and unambiguous. Whether a guarantor remains liable will be determined by interpreting the contract between the parties and determining the intention of the parties as demonstrated by the words of the contract and the events and circumstances surrounding the transaction as a whole.

The Court of Appeal agreed with the motion judge that there had been material alterations to the credit arrangement between RBC and the debtor, Samson Management and Solutions Ltd. (“Samson”), about which Ms. Cusack had not been consulted and which increased the risk to Ms. Cusack, even though her financial exposure was capped at $250,000. At common law, these alterations would have resulted in her discharge from liability under the guarantee in the absence either of her consent or of clear language permitting RBC and Samson to make the alterations without her consent. However, the Court of Appeal noted that was only the first step of the analysis and held that the motion judge erred by failing to analyze the language of the guarantee in the context of the transaction as a whole to determine whether Ms. Cusack had contracted out of her right to be notified of such alterations.

The Court of Appeal found that the language of the guarantee signed by Ms. Cusack was “very broad” and “plainly designed” to ensure that the guarantor does contract out of the ordinary protections of common law. Specifically, the Court found the following language in the guarantee showed that Ms. Cusack had contracted out of her right to be notified of alterations in the credit agreement:

The first paragraph of the guarantee provided that Ms. Cusack would pay on demand to RBC “… all debts and liabilities, present or future direct or indirect, absolute or contingent, mature or not, at any time owing by [Samson] or remaining unpaid by [Samson] to the Bank, heretofore or hereafter incurred or arising and … incurred by or arising from agreement or dealings between the Bank and [Samson] …”

The second clause of the guarantee provided that the guarantee was “…a continuing guarantee and shall cover all the liabilities, and it shall apply to and secure any ultimate balance due or remaining unpaid to the Bank”

In addition, various clauses in the guarantee expressly permitted RBC to take actions that might or would otherwise be material alterations affecting the enforceability of the guarantee at common law and equity, such as increasing the amount loaned, giving more time for payment, renewing the loan arrangements, increasing the interest rate, changing the maturity date of any loan, and introducing new terms and conditions in respect of the borrowing.

In the Court’s view, the application of the language in the guarantee in the context led to the conclusion that Ms. Cusack contracted out of the protection provided by the common law, and was therefore liable under her guarantee. Ms. Cusack knew and accepted that Samson’s indebtedness to RBC could increase in the future even though her guarantee was limited. This is also the advice that her lawyer confirmed that he gave Ms. Cusack in the letter of independent legal advice and that she acknowledged receiving. The Court also noted that the guarantee in question was what is known as a “continuing all accounts” guarantee and found that this was an important contextual consideration. In contrast to a specific guarantee, the purpose of a continuing all accounts guarantee is to allow the customer and the lender to alter their business arrangement without having to involve the guarantor.

While the Court agreed that the subsequent advances by RBC to Samson were material alterations to the principal loan contract, it held that such alterations were contemplated by the parties, permitted by the clear language of the guarantee, and inherent in a continuing all accounts guarantee that contemplates increases in the size of the underlying indebtedness. Furthermore, the guarantee in this case expressly permitted RBC to change the terms of the borrowing, which would include changes in performance standards. Thus, despite the material alterations in the underlying loan arrangements, Ms. Cusack’s personal guarantee remained enforceable given the clear and unambiguous language of the guarantee and the factual context.

The decision of the Court of Appeal in RBC v. Samson Management & Solutions Ltd. means that the long-established case law upholding the validity and enforceability of continuing guarantees to future liabilities remains intact. The decision also marks the second time this year that Justice Lauwers, writing for a unanimous court, has enforced the provisions of a “plain-vanilla standard form bank guarantee” in the context of a business loan (see also Fifth Third Bank v. O’Brien, et al, 2013 ONCA 5).

That said, given that much of the decision in the RBC case was focused on the particular language of the guarantee, a close look at the form of guarantee being used by lenders is warranted to ensure that the contracting-out language is clear and unambiguous. In addition, the lessons learned and best practices listed in our prior updates are still important to remember in respect of loan agreements and guarantees. When increasing the available amount of facilities or changing or implementing new conditions or requirements under a loan agreement, lenders should: (i) not terminate the old loan agreement and replace it with a new one (instead, revisions should be drafted as an amendment or an amendment and restatement); (ii) always have a new guarantee provided or the old guarantee confirmed by the signatory; and (iii) consider having the guarantor a party to the loan agreement (as a guarantor or restricted party), such that the guarantor must then sign any documents in connection with an amendments to the loan agreement.

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